Dear Fellow Shareholders,
Following a very challenging 2015, the Group benefited in 2016 from positive macroeconomics, continued positive and renewed consumer demand for polished diamonds in key markets, a robust supply of rough diamonds at economically viable prices and no inventory overhang. The Group's revenues and operating performance showed significant improvement throughout 2016, with both increased diamond manufacturing equipment sales, including delivery of a record 84 GalaxyTM family systems, and increased recurring revenues.
During 2016 rough diamond sales showed a marked recovery over 2015, as pricing of rough diamonds remained stable at significantly lower (20 – 25% less) levels than in 2015 and polished diamonds' prices remained overall stable, as well. De Beers' first two sights for 2017 were in excess of US$ 720 million in January, almost a third higher than at the corresponding sight in 2016, and US$ 545 million in February, in line with February 2016's corresponding sight of US$ 550 million, which further indicates the overall positive industry sentiment. We expect rough diamond sales and the consequent polishing activity to continue robustly for the rest of the year, as there are no significant negatives impairing profitability throughout the diamond industry value chain, as well as no known polished diamond inventory issues of substance at this time. This healthy midstream industry activity should underpin robust Group sales in 2017. Incidentally, we have had no substantial negative impact from India's demonetisation program, as evidenced by our record fourth quarter for Q4 2016.
Sales programs utilising Sarine ProfileTM by retailers in the U.S and the Asia Pacific (APAC) region continue to expand. Programs with retailers in the U.S. are gaining momentum slower than those in the APAC region due to various reasons, including the average quality of stones sold and other corporate and consumer cultural issues. Notwithstanding this, we are seeing a significant growth in interest in the Sarine ProfileTM compared to a year ago, with growing momentum both with large regional and national chains and high-end independents. We hope to double the number of stones scanned for the Sarine ProfileTM in 2017 and expect its contribution to overall Group sales to be around 5%.
Group Performance - Year in Review
Revenues for FY2016 increased by 49.7% to US$ 72.5 million, as compared to US$ 48.5 million for FY2015. This increase in revenues stemmed primarily from increased diamond manufacturing equipment sales, including GalaxyTM family systems, as well as increased recurring revenues from the broader installed base of inclusion mapping systems. With deliveries in FY2016 of a record 84 GalaxyTM family systems to customers and service centres, significantly more than the previous record of 48 systems delivered in 2014, the Group had an installed base of 299 GalaxyTM family systems as of 31 December 2016. However, looking forward to 2017 we do not necessarily expect to repeat this record (or exceed it). Some of the demand may have come from our launch of the MeteorTM under attractive introductory terms throughout 2016, which are no longer offered. Additionally, as of 1 January 2017 we have updated our pricing of the various models' ongoing use fees, and, as to be expected, this has slowed new orders – we believe this is a short–term issue, as the market adapts to our new terms. The Group's recurring revenue (including GalaxyTM-related, QuazerTM services, annual maintenance contracts, and the Sarine ProfileTM) constituted approximately 40% of overall FY2016 revenues.
Gross profit for FY2016 increased by 54.5% to US$ 50.3 million, as compared to US$ 32.5 million for FY2015. For FY2016 the Group recorded a gross profit margin of 69%, compared to 67% as in FY2015, due, primarily, to overall increased revenues. Profit from operations for FY2015 surged by 286% to US$ 21.2 million, as compared to US$ 5.5 million in FY2015. For FY2016 the Group's operating margin nearly tripled to 29% as compared to 11% for FY2015. The increase in our operating margin was due primarily to our increased revenues, offset somewhat by our ongoing strategic expenditures on new products and services, primarily for our downstream markets. EBITDA expanded by 163% to US$ 25 million as compared to US$ 9.5 million for FY2015. For FY2016 the Group reported a net profit of US$ 18.0 million, fivefold the net profit of US$ 3.6 million realised in FY2015. For FY2016, the Group recorded a net profit margin of 25%, pointedly more than the net profit margin of 7% of FY2015. During FY2016 the Company earned US$ 18.0 million, equivalent to basic earnings per share of US cents 5.14 (1.03 in FY2015) and fully diluted earnings per share of US cents 5.14 (1.02 in FY2015).
As at 31 December 2016, cash, cash equivalents and short-term investments (bank deposits) ("Cash Balances") increased to US$ 38.0 million from the US$ 32.6 million reported as of 31 December 2015. The primary reason for increased cash flow was the Group's improved operating results, lower inventory levels and higher payables. This was offset by the US$ 1.2 million purchase of DiaMining's app-based point of sale technology for diamonds, gemstones and jewellery (resulting in an equivalent increase in intangible assets), higher trade receivables (on higher recurring revenues and credit to certain customers) and increased fixed assets, primarily due to the Group's construction of its new facilities in Surat,India. In addition, the Group paid US$ 12.2 million in dividends in 2016 – the US$ 5.2 million final dividend paid in May 2016 for the fiscal year 2015 and the US$ 7.0 million interim H1 2016 dividend paid in September 2016.
Significant Events in 2016
Sarine's wholly owned subsidiary, Sarine Color Technologies Ltd., acquired the technology and assets of DiaMining Ltd., an established developer of Point of Sale (POS) applications for diamonds, gemstones and jewellery. Having renamed it Sarine ConnectTM, the integration of this technology enhances the Sarine ProfileTM with mobile device capabilities as well as virtual inventory functionalities. The Sarine ConnectTM provides a virtual inventory ability by linking into suppliers' inventories and allowing a retailer (or online buyer) to create a unique jewellery piece by selecting from available settings and stones.
Sarine announced towards the end of 2016 that it has developed new and groundbreaking technology that will provide automated, objective and consistent inclusion mapping in polished diamonds and Clarity grading – a first for the diamond industry, as well as a system for automated objective and consistent Color grading, both of which are in large scale testing with commercialisation slated for Q3 2017.
Looking Ahead to 2017
The Group's main objectives for 2017 are:
- Continue the market penetration of our GalaxyTM family of inclusion mapping systems;
- Maintain our dominant market lead and the overall value proposition embodied in our DiaExpertTM planning systems and AdvisorTM software, with which the inclusion mapping systems and Quazer 3 high-end green laser cutting and shaping tools interface, so as to sustain the entry barrier for our competition;
- Double the adoption of our unique Sarine ProfileTM and Sarine ConnectTM by the polished diamond trade; and
- Commercialise our new automated and objective Clarity and Color grading of polished diamonds; typical customers could be existing players in this domain – gemmological laboratories, large chain retailers with existing in-house gem labs, large manufacturers who already prefer self-certification, etc.
The latter two will both increase our recurrent revenue stream and balance our business more evenly between the midstream manufacturing segment, mostly in India, and downstream trading segment, mostly in the U.S. and APAC region, so as to create an inherent buffer against a downturn in any single segment, as was experienced in 2015 in the midstream.
To these ends, we will focus the Group's research and development initiatives as follows:
- Midstream products: Implement ongoing improvements to our AdvisorTM rough planning software to continue to enhance its capabilities and productivity along with refined IP protection. We have completed development of the ability to predict the planned polished diamond's light performance during its planning stage. We are now working on the capability to plan a polished diamond to meet desired light performance grades in general (e.g., Ultimate) or specific grades of specific sub-parameters of light performance (e.g., Ultimate Fire). Completion of the integration of these new capabilities with AdvisorTM and our faceting quality control software (InstructorTM), so as to allow manufacturers to incorporate light performance into their manufacturing criteria and develop enhanced Cuts based on light performance as well as proportions and symmetry, will be released in AdvisorTM 7.0, scheduled for mid-2017.
- Downstream products and services:
– Expansion of our operational infrastructure for Sarine ProfileTM;
– Continued enhancement of Sarine ProfileTM in order to provide additional capabilities for customer programs, as required, mainly additional shapes – current work continues on less ubiquitous shapes, such as Ovals, Pears, Marquises and Hearts.
– Further integration of the recently acquired Sarine ConnectTM (previously known as DiaMining) technology to enhance Sarine ProfileTM with mobile device capabilities, as well as virtual inventory functionalities, while also augmenting Sarine ConnectTM's interface with more retail-oriented features.
– Enhancement of Sarine ProfileTM to support the display of jewellery pieces and not only loose polished diamonds. As retail businesses display set jewellery by far more often than loose stones, this will significantly broaden the appeal and applicability of Sarine ProfileTM.
– Complete the development of the Clarity and Color grading capabilities, which are in testing, including the software infrastructure necessary for process management, data security, etc.
We also see bolstering our enforcement of our intellectual property (IP) rights to preclude unauthorised use of our inclusion mapping technology a key objective in 2017. We intend to seek remedies against those who illegally compete with us by violating our IP rights, by making, selling, renting, buying, using or using the output from infringing products and pirated software. We shall leverage the patents granted us, as well as the inherent copyright of our software, to protect our IP aggressively.
The Board of Directors has recommended that a final ordinary dividend of US 2.5 cents per ordinary share (approximately US$ 8.8 million) be distributed for FY2016, comprising a dividend of US cents 2.0 per ordinary share as per the dividend policy and a special bonus dividend of US cents 0.5 per ordinary share. This will bring total dividends for FY2016 to US 4.5 cents per share, 50% more than for FY2015, approximately US$ 15.8 million. This sum constitutes over 87% of our net earnings for the year and demonstrates Management's and the Board's belief that 2017 will continue to show robust activity with the commensurate revenues and profitability demonstrated by the Group in 2016.
On behalf of the Board of Directors, I would like to again thank our ever- growing circle of customers, conscientious suppliers and business partners, and devoted management team and employees for their ongoing support of and dedication to the Group. We believe that these long-term relationships will continue to foster the means by which we will bring innovation and value to the global rough and polished diamond trade in 2017 and beyond, as we inspire confidence in the industry's players, its global consumers and in our loyal shareholders.
Daniel Benjamin Glinert